Monday, October 13, 2014

Why shorting low-float momo stocks is a big "no-no"

There are some things you just shouldn't do, unless you want to lose a lot of money.

Shorting stocks in an uptrend is one of those things. More specifically, shorting low float momentum stocks in a red-hot industry theme is something you should avoid. Unless, of course, you like paying up for the privilege of imposing your views on the market.

Even on a day like today, when the major indices (SPY, QQQ, IWM) are dropping, people are panicking, and the VIX ("fear index") is nearing 2-year highs, we see low-float stocks shooting to the moon.

Here are 3 such stocks (APT, IBIO, and LAKE) rocketing higher on the fear-driven Ebola theme

Ebola stocks momentum momo APT IBIO LAKE



Note that these Ebola-related stocks were all up 35% or more on a day when the rest of the market was tanking. Still want to step in front of this train? 

As I mentioned on Twitter last week, Ebola stocks are the hot momentum theme of the moment. This is a fear-and-greed play that will result in yet another boom-and-bust cycle. These shares will rocket higher, then peak, and (very likely) plunge lower.


 
We've already seen it happen this year with cannabis stocks, fuel cells, and wearable cameras (in the wake of the Ferguson fiasco and GoPro's IPO). Now the speculative frenzy is focused on companies that might help to protect us from a deadly viral outbreak. 

No matter the industry theme, these low-float stocks can rocket higher once traders and investment funds set their sights on a theme and start buying in earnest.

Here are 2 recent videos (from real chart-focused traders) that explain the pitfalls of shorting small-cap momentum stocks with low share floats. 

1. Steve Spencer at SMB Capital outlines The Risk of Shorting a "Low Float" Stock - DGLY

2. Nathan Michaud at InvestorsLive explains Float Rotation and the similarities between the DGLY and LAKE run-ups. 

If you must short these stocks, wait until each individual name has formed a true topping pattern or entered a new downtrend. Better yet, since most people aren't truly skilled at shorting stocks, wait for the "nonsense" to subside as you sit on the sidelines in cash. You'll probably save cash (by protecting your trading account) in the end. 

Disclosure: No current positions in any of the stocks mentioned in this post. I am long one drug stock (not mentioned here) that may be an Ebola-related stock

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